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chessNwine

Full-time stock trader. Follow me here and on 12631

‘Tis the Season

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MARKET WRAP UP 07/12/10

In front of the initial earnings of the season being reported this evening, the market put in a rather tedious, uneventful trading session. With the S&P 500 closing up 0.07% to finish at 1078, we have now seen five consecutive closes in the green. While the advance has been on declining volume, low volume is not an excuse–in and of itself–to sit out the rallies, as evidenced by the low volume during most of the run up since March of 2009.

What is of more concern to the bulls is the overhead resistance stemming from the breakdown during the past few weeks. Many longs trapped themselves at these levels, thinking we had bottomed in late June, when the reality is that we had another vicious leg down to 1010. Given the chance to cash out their chips close to even, they will gladly do so. Further, the 20 day moving average, now sloping down slightly, is acting as resistance even though we did close slightly above it today. In sum, as the updated and annotated daily chart of the S&P 500 indicates below, the overall technical picture is still clearly in favor of the bears.

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After hours, I see that $AA beat earnings and is up in post market action. It is crucial to not be presumptuous in situations like this. Remember, it is not the earnings report that matters so much as it is the reaction to it by the market. Moreover, the after hours action can easily fade by the time tomorrow morning rolls around. I believe it is important to resist the urge to extrapolate that the broad market will automatically rally based on $AA‘s beat, although that could easily happen.

My overall market thesis has not wavered. I will play with some longs here, and respect the rally. Should we fail to make a higher low, and instead roll over hard at resistance levels, I will have no problem going back to all cash or even putting on some shorts. Should we have a rip roaring rally tomorrow and Wednesday, I will further reduce my long exposure.

I recognize that my style of trading can often seem boring in these kinds of markets. All I can say is that my style has served me well over the years. To think of trading as being a glamorous profession can be a very dangerous thing. Above all else, I want to be heavily involved during trending markets, where price is gliding parallel and fairly smoothly either above or below all of the major moving averages. When the market is oscillating like this, however, my cash position will remain high until the we fly out of turbulence, and the captain takes off the fasten seatbelt sign.

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TOTAL PORTFOLIO:

EQUITIES: 36%

  • LONG: 36% ($NR $NTAP $LULU $CRM $THOR $APKT)

CASH: 64%

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Long and Short Trading Ideas

We all know today’s tape is boring and frustrating to both bulls and bears. Whether this turns out to be a healthy consolidation for another move higher, or rather a sign of a lethargic rally that will soon roll over, remains to be seen. Either way, it is crucial to be prepared. Below, you will find my top three long ideas, as well as some comments about where I think you will find good shorts, in the event of another leg down.

LONG IDEAS

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SHORT IDEAS

I could list all of the individual plays, but basically I would look to the high beta commodity complex to short, should we roll over. Another leg down from here would most certainly reignite the deflation fears, and you can be sure that all economically hyper-sensitive commodities will get pounded. In particular, I would look to the coal and steel sectors.

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Threading the Needle

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Thus far this morning, the S&P 500 touched the 20 day moving average again and is in the red. After the exuberant move higher in a straight line off of the lows last week, some giveback here is a welcome site for those looking for a healthier swing trading market. However, a consolidation in and of itself is not necessarily bullish, as evidenced by how sharply we rolled over in late June after several doji days.

My view of a bullish case would be to see a higher low hold in the coming days. My most profitable trades have come from what I call “threading the needle,” whereby I closely watch a potential bearish to bullish reversal, but do not chase the initial breakout. Instead, I wait to see if a pullback from the primary breakout holds a higher low, and only then do I become aggressive. In gambling parlance, I am only looking to get the lion’s share of my money into the middle of the pot when I “have the best of it,” in terms of probabilities.

Keep in mind that the higher low, if we get one, could happen as early as today. The main thing to look for in the tape is a pattern of a thrust higher, followed by a pause, followed by another push higher from an underlying bid. I may make some trades here and there, but my huge cash position is still consistent with that of a corrective market.

Look to see if 1071 and 1068 can hold as short term support, with the 20 day moving average above 1075 acting as obvious resistance.

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Violent Rejection

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On June 21st of this year, the S&P 500 gapped up on a Monday morning and tagged 1131, only to turn immediately down in pretty much a straight line for the next two weeks. Similarly, on July 1st of this year, the S&P briefly touched 1010 before seeing another reversal, as we ended this week just under 1078. Incidentally, we closed this week roughly at the midpoint between 1131 and 1010, further illustrating that we are not in a trending market, so much as we are in a channeling one (see below for updated daily chart).

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With the broad market in correction since late April, you would think that the correct play was to aggressively short the breakdown below the crucial 1040 price a few weeks ago. However, we blew back up through that key zone this past week, and that trade is now underwater. It is often said in the stock market that aggressive moves come from failed moves. Well, we are seeing that in both directions. The proper strategy in this market has been to fade both breakouts and breakdowns. True, you could have scalped some quick coin from 1040 down to 1010 as a short, but look how quickly your face would have been ripped off had you not nimbly covered.

The conclusion that I draw from the above analysis is that this is still a market where discretion is the better part of valor. As boring and repetitive as it may seem for me to say, I believe that cash should be your biggest position until we find ourselves back in a trending market, where making money is easier. Buying the dips and selling/shorting the rips can reap big rewards in this kind of market, but that strategy also carries a high level of risk–just witness how long we stayed oversold two weeks ago. If you have been following my posts, then you know that I have been engaging in some trades, but have always done so with a fairly large cash position to boot, along with occasional hedges.

With earnings season, another round of economic data, not to mention options expiration coming up this week, the amount of variables at play leaves me quizzical at how anyone can have conviction in this market in either direction. Clearly, the bears have the longer term initiative, with the downsloping 50 day moving average likely to touch price this week. Further, the last time that the S&P held above the 20 day moving average for a few sessions in late June, it turned out to be a vicious trap. Now that we have worked off last week’s oversold condition, I will look to further reduce my longs into any strength that we may see early next week. However, keep in mind that a repeat of a 2004 type of scenario would lead to another heartbreak for the bears by the end of the summer.

As I wrote yesterday, what the bulls need more than anything else is a higher low. Ideally, a pullback to 1040-1050, followed by strong institutional buying, would compel me to make more aggressive bets on the long side. For the bear case, a swift rejection of either the 20 or 50 day moving average this week, followed by another break of the 1040 level would put that 1010 low in grave danger of being violated. Should that latter case materialize, the now ubiquitous head and shoulders top that has been forming since January would finally come to fruition.

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TOTAL PORTFOLIO:

EQUITIES: 36%

  • LONG: 36% ($NR $NTAP $LULU $CRM $THOR $APKT)

CASH: 64%

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CHESS MOVES

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Made a quick 10% in $APKT (all trades timestamped in The PPT), so I am selling 1/2 of my long position off here. I still love the chart and the firm, but I am simply respecting the overall market downtrend for now by taking some quick profits.

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TOTAL PORTFOLIO:

EQUITIES: 36%

  • LONG: 36% ($NR $NTAP $LULU $CRM $THOR $APKT)

CASH: 64%

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[youtube:http://www.youtube.com/watch?v=ZJtGuMTTSzA 450 300]

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Looking for the Higher Low

In order for me to really get aggressive again on the long side, I am going to need to see evidence of an underlying bid which supports a change in trend. As I expected, the rally from the 1010 level on the S&P 500 has been fast and furious, but we now find ourselves up four days in a row. Further, we are currently churning just below the flat/declining 20 day moving average, which is at 1076.

The zoomed in up to date daily chart of the S&P illustrates this point, with the orange colored 20 day moving average shown just above price (see below).

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A pullback and successful retest of the 1040-1050 area, with strong buyers presenting themselves in a meaningful way, would compel me to look for more aggressive plays (breakout plays), and to allocate a much higher percentage of my portfolio to long equities.

Of course, if a successful higher low does not occur, I will maintain my overarching defensive posture consisting of a high cash position. On any rapid deterioration, I would also look to reapply downside hedges.

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